This article first appeared in the PB April 2014
issue of Pro Builder.
The U.S. Senate recently rubber-stamped a flood insurance bill the U.S. House of Representatives passed overwhelmingly in March. The bill caps annual premiums under the National Flood Insurance Program—which had been rising by 40 percent or more in some markets—at 18 percent per individual policy. This legislation, for which builder and Realtor groups lobbied hard, proves that under the right circumstances and pressure, Congress will work together to make things happen. “Congress acts when constituencies’ pocketbooks are burning red,” says Joe Ventrone, vice president of regulatory affairs and real estate services for the National Association of Realtors.
But Washington watchers wonder whether the flood insurance agreement was an anomaly, given the enmity between the country’s two political parties. And if that’s the case, what will it take for elected officials to allay their hostilities long enough to reach common ground on three big issues confronting the housing market today:
• Reforming what the Bipartisan Policy Center calls an “outdated” system for financing home purchases and securitizing mortgages;
• Striking the right regulatory balance to protect homebuyers without unduly limiting their access to credit; and
• Simplifying the tax code, which could mean sacrificing incentives that promote homeownership at the altar of debt reduction.
With Congress at war internally and with the White House, compromise would appear to be wishful thinking. And the clock is ticking, with midyear elections in November and the start of the next presidential campaign season just around the corner. The prospect of Republicans controlling both houses of Congress would fundamentally change what “reform” means and which bills could pass muster.
Lobbyists and economists aren’t optimistic about any substantive reform bills emerging from Congress in 2014 or even next year. “These are heavy, multiyear lifts as a matter of course, and the political environment has made any major activity more difficult,” says Bill Killmer, senior vice president of legislative and political affairs for the Mortgage Bankers Association.
Still, Killmer and other industry veterans—having seen this movie before—counsel patience. They note that any major legislation inevitably goes through interminable rounds of Congressional pummeling before enough lawmakers cry uncle. And each proposal becomes a building block for the final version. “Progress is relative, and is ultimately measured by bills that reach the president’s desk for signature,” says Jim Tobin, NAHB’s senior vice president of government affairs.
Of course, the signing of any bill into law is only the starting point for a rollout process that could take years to complete. “It’s a long intellectual road and, in most cases, a dead end,” says Mark Zandi, chief economist for Moody’s Analytics, about crafting and passing big laws. “But you keep going down that road. You can’t get a deal until you do the hard work, and these are complex issues—it’s our entire economy—so you want to get it right. The debates about these issues are the beauty of our system.”
In the following, Professional Builder takes an in-depth look the current state of housing finance reform, tax reform, and mortgage borrower protections, with an eye toward determining which is nearest to actuality, which is languishing, and what it all means to builders and their customers.
Housing finance reform
First, let’s ask: What’s the rush?
Fannie Mae and Freddie Mac have paid back nearly all of the $187.5 billion that the Treasury Department injected to prop them up during the last recession. These government-sponsored enterprises (GSEs) are profitable again—sort of. So why not just fix the existing system, which is after all supporting nearly two-thirds of single-family and rental-market mortgages?
That kind of magical thinking, coupled with the general paralysis in Washington, may have been what drove Alex Pollock of the American Enterprise Institute to declare in 2014, “The fate of Fannie and Freddie will continue to be debated, but fundamental structuring will once again not be achieved.”
“There’s no urgency” to reform the GSEs, says Richard Green, director of the USC Lusk Center for Real Estate, who doesn’t expect Congress to pass any bill until 2016.
But there’s no appetite among lawmakers or the White House for maintaining the status quo, either. “Fannie and Freddie have become toxic, politically,” says longtime housing industry veteran Nicolas Retsinas, who currently lectures at Harvard. Michael Stegman, Counselor to the Treasury Secretary, concurs. In comments he made at a JPMorgan conference in March, Stegman acknowledged that conservatorship was “not good for the housing market,” and that the lack of GSE reform is an “impediment to growing a vibrant non-agency private-label securitization market.”
So the winding down of the GSEs proceeds, as does the shifting of mortgage-related risk away from taxpayers and toward private capital. At issue, then, is what—if any—future role the federal government will play in the secondary market.
“What has emerged in the last few years is a consensus among many constituencies about what reform ought to look like,” says Eric Belsky, managing director of the Joint Center for Housing Studies. He points specifically to the Bipartisan Policy Center’s February 2013 white paper on housing’s future, which recommended replacing Fannie and Freddie with a Public Guarantor that would provide a catastrophic government guarantee for investors of mortgage-backed securities, similar to the Ginnie Mae model.
“What we did was to start the debate,” says Ed Brady, president of Brady Homes in Bloomington, Ill., who was part of BPC’s housing commission. Groups representing builders, Realtors, and banks continue to push for an explicit federal backstop of investment, which they say is essential to preserving popular lending instruments like the 30-year fixed-rate mortgage, and to attracting private capital into the system.
Killmer believes Congress is closer to GSE reform “than we’ve ever been,” and what’s likely to come out of the Senate would “lay the groundwork for legislation.” Clifford Rossi, a professor at the University of Maryland’s business school, predicted in American Banker magazine in February that “meaningful [GSE] reform is finally within reach.”
But don’t go planning any victory parties just yet. Any reform measure that Congress sends to President Obama would need to reconcile at least four different bills and proposals already on the table. “The legislation that will pass has not been written yet,” Brady says.
Those proposals include:
The Protecting American Taxpayers and Homeowners (PATH) Act, which the House Financial Services Committee passed last year. PATH’s cold-turkey approach would remove the federal government from the housing finance sector entirely within five years. The committee’s chairman, Jeb Hensarling (R-Texas), frames this bill as giving consumers more choices.
In January, three congressmen—John Delaney (D-Md.), John Carney (D-Del.), and Jim Himes (D-Conn.)—proposed winding down Fannie and Freddie in five years and selling them. Their proposal would maintain a government guarantee by restructuring Ginnie Mae, which currently focuses on providing affordable housing to low- and moderate-income families through a guarantee for mortgage lenders. Private capital would assume the first 5-percent loss on credit risk, and private insurers could share reinsurance risk with Ginnie, with the insurers assuming a minimum of 10 percent.
Sens. Bob Corker (R-Tenn.) and Mark Warner (D-Va.) last June introduced the Housing Finance Reform Taxpayer Protection Act, with 10 co-sponsors. Their proposal would wind down the GSEs and their conservator, the Federal Housing Finance Agency (FHFA), in five years and transfer their functions to a newly created Federal Mortgage Insurance Corporation (FMIC), modeled on the FDIC and paid for by consumers through a charge on their mortgages. The corporation would provide catastrophic reinsurance after private-capital losses on credit risk exceeded 10 percent.
Zandi of Moody’s Analytics recently calculated that Corker-Warner would add about $50 to a homeowner’s monthly mortgage payment, versus $117 if PATH became law.
On March 11, the Senate Budget Committee’s co-chairs, Tim Johnson (D-S.D.) and Mike Crapo (R-Idaho), released their own GSE reform package, which mostly mimics Corker-Warner. The agreement—which the White House helped craft—would eliminate Fannie and Freddie and replace them with a government insurer that would step in after private capital lost 10 percent of the loan. Borrowers would be required to put down at least 5 percent. To assuage community banks, the measure would set up a cooperative jointly owned by small lenders. That co-op would provide a cash bridge for eligible loans while lenders retain servicing rights.
On the day the Committee released its blueprint, common shares of Fannie and Freddie suffered huge price drops.
Kevin Kelly, NAHB’s chairman, commended Johnson and Crapo for reaching a bipartisan agreement that would retain a government backstop to ensure 30-year mortgages and keep credit accessible and affordable. “We urge the Senate to move quickly so that housing finance reform legislation can be enacted into law before the midterm elections.”
“There’s a lot riding on Johnson-Crapo,” agrees NAR’s Ventrone, in terms of its authors’ credibility to marshal enough committee votes to pass a bill that Senate Majority Leader Harry Reid would put before the full Senate for a vote and, in turn, pressure the House to come up with a compromise bill. “At least it would be a starting point for the next round in 2015,” says Barry Zigas, director of the Consumer Federation of America.
But these “signs of life” in the Senate “are still a long way from actual legislation,” Retsinas cautions. Meanwhile, the “here and now,” says Belsky of the Joint Center, is FHFA—which will continue to regulate the GSEs and mitigate taxpayer losses until Congress and the White House decide otherwise.
Observers say there has been a clear change in tone at the agency since the January appointment of former congressman Mel Watt as its director. Pollock of the American Enterprise Institute dismisses Watt as a “cheerleader” for Fannie and Freddie. But others laud his evenhandedness in hiring new staff, as well as the agency’s willingness to meet with industry groups to hear their concerns about matters such as tight credit.
Watt, through a spokesperson, declined to be interviewed, and his agency hasn’t been too chatty about its plans. But Belsky thinks that builders anxious about GSE reform would be best served by following what FHFA does next.
Consumer protection
Sometime soon, perhaps by late spring, six government agencies working with the Treasury Department are expected to unveil the final definition for what constitutes a Qualified Residential Mortgage (QRM). Following those standards will provide lenders with liability protections and risk-retention waivers, and presumably remove the uncertainty that so many builders and lenders insist is restricting credit for qualified borrowers.
Experts expect that QRM standards will equal the Qualified Mortgage (QM) rules that went into effect on January 10. Lenders that don’t meet QRM’s standards would have to keep a 5 percent stake in loans. To be exempt from those risk-retention provisions, lenders are responsible for determining the creditworthiness of borrowers based on their ability to repay the loan. The primary metric is a borrower’s debt-to-income ratio, which shouldn’t exceed 43 percent. Lenders also can take other factors, such as credit scores and assets, under consideration and still underwrite a mortgage to QRM’s rules.
The Consumer Financial Protection Bureau (CFPB), which devised QM, made a major concession to industry pressure last summer when it removed the 20-percent down-payment mandate. The Coalition for Sensible Housing Policy applauded the move and synchronization in general, as “preserv[ing] a role for prudently underwritten loans as part of the new rule.” The Washington Post, on the other hand, chastised the Bureau for “capitulating” to bankers. And Georgetown University Law School professor Adam Levitin thinks the alignment of QM and QRM is a mistake. “Skin in the game is meant to be a systemic stability regulation, but it has instead been pegged to a consumer protection regulation,” he told Inside Mortgage Finance.
CFPB director Richard Cordray, through a spokesperson, declined to be interviewed. But in comments he made in January at a Realtors’ conference, he emphasized that the agency’s ultimate goal is “a world in which mortgage transactions can be expected to turn out successfully for both borrowers and lenders.”
Since it launched in 2010, the Bureau has been something of a lightning rod for conservatives and bankers who opposed its formation and expanding authority. In February, the House passed the Consumer Financial Freedom and Washington Accountability Act, which would replace Cordray with a five-person board appointed by the president and confirmed by the Senate. The proposal would make the Bureau, which currently is under the Federal Reserve, a stand-alone entity subject to the Congressional appropriations process and prohibit consumer data collection without individuals’ permission.
The Bureau’s supporters see this bill as a transparent attempt to defang the CFPB. Its passage “would harm consumers and empower the worst elements of the financial industry,” warns Americans for Financial Reform.
Many of the sources contacted for this article generally give the Bureau’s performance high marks. Zigas of the Consumer Federation of America thinks the Bureau is doing “a terrific job.” And Tobin of NAHB says he’s been surprised at how balanced the new rules have been, although he’s still waiting to see how the banks implement them. “You need to be careful that the regulatory pendulum doesn’t swing too far where banks are afraid to lend.”
The conventional wisdom within the housing and mortgage quarters is that the new rules are depriving some creditworthy borrowers from getting a mortgage. These skeptics point to first-time buyers and renters who have a hard time hitting the debt-to-income thresholds. Self-employed borrowers have trouble meeting income-document standards. And what about borrowers working on commissions or bonuses who might prefer interest-only loans that don’t fall within QM’s parameters?
“The bottom line is one size does not fit all,” Brady says.
Other observers, though, are less fearful of this new regulatory regime. “We will probably know in the next few months if QM is going to let grass grow in the street; my guess is it won’t,” says NAR’s Ventrone about whether QM will impede mortgage lending. In fact, the new rules have yet to stymie most borrowers’ access to credit, including jumbo loans, reports the Wall Street Journal. But the Bureau, no doubt, is keeping close watch on the sudden re-emergence of subprime mortgages, which Bloomberg News reports are slowly making a comeback.
Tax reform
Housing and mortgage officials couldn’t be more blunt in their assessment of the prospects for major tax reform in the next few years.
“It’s off the table,” Ventrone says. “The Senate is not a willing partner, and neither is the White House,” Tobin says. “That’s a tougher one,” says Brady, the home builder. And “maybe that’s a bridge too far,” Belsky says.
But Belsky and others note that, absent tweaking the tax code, many of the nearly 50 tax extenders that expired on December 31 could be in jeopardy, some of which directly impact construction and community development.
Sen. Ron Wyden (D-Ore.), who chairs the Senate Finance Committee, told Reuters on March 4 that his committee would start work in April on restoring “a small package of tax breaks,” of which he did not specify. But Wyden, who has championed comprehensive tax reform in the past, conceded it would be nearly impossible to cobble together a major bill this year with elections coming up.
Wyden made those comments on the day the Obama Administration released its budget for fiscal year 2015, which begins on October 1. That budget isn’t likely to influence Congress much, mainly because it calls for new revenues from taxes that Republicans adamantly oppose. But it does establish President Obama’s agenda and how he intends to pay for it.
The president projects $3.9 trillion in spending and $3.3 trillion in revenue, with a $478 billion deficit. The 2015 budget includes $56 billion in additional discretionary spending for such things as manufacturing institutes, energy efficiency, job training, and early childhood education. His budget also would expand the earned-income tax credit.
To pay for this spending, Obama snips here and there—but no major surgery. He would cap tax-deferred savings on retirement accounts for higher-income Americans, who would also pay more for Medicare benefits. He would curb some subsidies and raise some user fees. New rules would take aim at preventing corporations from moving profits overseas to dodge taxes.
More intriguing than the White House’s budget proposal was the sweeping tax reform plan that House Ways and Means chairman Dave Camp (R-Mich.) released out of the blue in February.
Camp had spent years working on this with his counterpart in the Senate Max Baucus (D-Mont.) When Baucus left Congress in February to become Ambassador to China, Camp lost an ally who might have helped drum up bipartisan support in both chambers.
Some observers see this proposal as Camp’s last hurrah before he relinquishes his chairmanship this year due to term limits. Others, though, credit Camp with making a good faith effort to offer something substantive that might appeal to both sides of the aisle. “I think the Camp bill is really good, and I’m a Democrat,” says Green of the Lusk Center. “It restores the balance between wages and capital. It’s a terrific first step, and I’m not talking about the first of 30 steps.”
Martin Sullivan, a Forbes contributor, was even more effusive in his praise of Camp’s “discussion draft,” as it’s called, which he says “has changed the tax policy landscape like no other single document in the last three decades.”
Camp’s 978-page opus, which he and his staff worked on for three years, would reduce the number of income brackets to three from seven. The bill increases the standard deduction to where 95 percent of taxpayers might no longer need to itemize; however, the personal exemption would be history. Households reporting more than $450,000 in income would pay a 10-percent surcharge. The Earned Income Tax Credit would be converted to an exemption of up to $4,000 per individual on Social Security and Medicare payroll taxes. And capital gains would be taxed as regular income, although 40 percent of those gains could be excluded for tax purposes. The bill is designed to push more savings into Roth IRAs.
Camp got builders’ attention because his bill would cut in half—to $500,000—the mortgage debt on which homeowners could deduct interest. Banks would face new taxes on lending. And the bill re-engineers the low-income tax credit to throw off more revenue and to encourage investment in low-income housing, which in all likelihood would be rental properties.
Camp’s bill has no chance of passing; his own party’s leadership mocked it the minute its details went public. But Killmer of the Mortgage Bankers Association has seen evidence in the past of a divided Congress being a “recipe” for tax reform. “Tax reform is going to be ugly,” he says, but the Camp bill could become a catalyst “from which momentum flows.” And in the short run, suggests NAHB’s Tobin, Congress might see merit in that part of Camp’s proposal that lowers the corporate tax rate to 25 percent. PB
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